Will asset class returns be enough?

The market has consistently overestimated the ability of the Reserve Bank to increase interest rates in this cycle – and last quarter was no exception. After having expected an interest rate increase for at least the past two years, the market ended the s

Local bonds (and property) were the standout outperformers in the second quarter, as both benefited from the change in market expectations concerning the direction of future short-term interest rates. However, global equity markets reacted negatively to the worsening economic outlook. The MSCI All Country World Index was marginally positive when measured in rands, but only because the rand was significantly weaker against a number of currencies. Similarly, the South African equity market gave negative returns over the quarter when measured in US dollars, but was largely flat in rand terms.

Within our equity market, there were important differences in performance: Defensive shares continued to re-rate as cash became less attractive, while cyclical shares dependent on the global economic outlook (and resource shares in particular) continued to de-rate.

These trends are aptly illustrated in the chart below, which indicates that international bonds (measured in rands) and SA property were the top two performers over the twelve months ended June 2012, while cash was the least preferred asset class in terms of performance. Within equities, there was little to distinguish between local and international equities.

 (click on image to enlarge)

Source: I-Net Bridge

There are concerns that global economic conditions could remain depressed for far longer than anticipated, and consequently that cash rates will remain stubbornly low for an extended period of time. In such an environment, cash and equities may struggle to generate the inflation-beating returns we have been used to over the past 20 years. Ultimately, it will become necessary to rely to a greater extent on the ability of a manager to outperform, rather than to expect an asset class to generate its historic real return.